Frocks and Gowns, Incorporated, has two divisions, Day Wear and Night Wear. The Day Wear Division has an investment base of $750,000 and produces and sells 100,000 units of Collars at a market price of $10.00 per unit. Variable costs for the Collars total $3.50 per unit and fixed charges are $4.00 per unit (based on a capacity of 120,000 units). The Night Wear Division wants to purchase 25,000 units of Collars from the Day Wear Division. However, the Night Wear Division is only willing to pay $6.75 per unit.
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What is the minimum transfer price that the Day Wear Division would accept for the 25,000 unit order from the Night Wear Division if it wishes to maintain its pre-order contribution margin?
A) $3.50.
B) $4.00.
C) $4.80.
D) $6.00.

Question

Quizplus · Accepted Answer

The minimum transfer price that the Day Wear Division would accept is $4.80 per unit. This is because the Day Wear Division's contribution margin per unit is $6.50 ($10.00 - $3.50). In order to maintain this contribution margin, the Day Wear Division must charge the Night Wear Division at least $4.80 per unit ($6.50 - $1.70).

Frocks and Gowns, Incorporated, Has Two Divisions, Day Wear and Night